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The day before the Dow set its first new record last week, the Shanghai Composite Index suffered its biggest loss in nearly a year—3.6%. The plunge followed Beijing's release of new measures to curb skyrocketing home prices, including higher down payments, steeper loan rates for second-home buyers in key cities and imposition of a 20% capital-gains tax.

The selling drove some previously high-flying real-estate stocks down 10% or so on the week and may not be over. But local investors quickly started to roll into Chinese banking stocks, which by week's end still offered some protection and value. Among the opportunities would be
Bank of China 3988.hk -0.7731958762886598%Bank of China Ltd. ADRU.S.: OTCUSD11.55
-0.09-0.7731958762886598%
/Date(1481307303000-0600)/
Volume (Delayed 15m)
:
13514
P/E Ratio
5.124678321057769Market Cap
146661657396.581
Dividend Yield
5.774606060606061% Rev. per Employee
372547More quote details and news »3988.hkinYour ValueYour ChangeShort position
(3988.Hong Kong), which dropped initially but then rallied 6%;
Agricultural Bank of China
(1288.Hong Kong), up 7.5%; and privately-owned
China Minsheng Bank
(1988. Hong Kong), which jumped 9%. Despite the rally, Chinese banking stocks trade at about 1.2 times book, or roughly seven times current-year earnings. Dividend yields in many cases run 5% or more. In light of expectations of 8% GDP growth, that seems pretty cheap, particularly since the big banks aren't as exposed to housing issues as some think.

Mortgages make up about 16% of total loans for major banks in China. Loans to developers comprise another 7% and loans to construction companies 3%. "The quality of mortgage loans in China is much stronger than that of loans to developers and construction firms," says Victor Wang, analyst for Macquarie Securities in Hong Kong. For most banks, the loan-to-value ratio for property borrowing is very low—often 50% or lower, he notes. "People are putting down a big chunk of the value up front, like 50% or more," he says.

Asset quality don't face big pressure at these banks. "Unless prices correct significantly, which is unlikely, we will just see some slowdown in transaction volumes and slower mortgage growth," says Simon Ho, Citigroup's China bank analyst in Hong Kong. Developers' cash flow could be hit if they can't move properties, resulting in some defaults. But Ho says that Chinese banks have been cautious in lending to developers in recent years. More crucial will be how local governments hold up, he says. They have been borrowing heavily to finance pet projects.

Still, Chinese banks look healthy. Loan growth is fairly robust 14% year-on-year to support 8% GDP growth this year with net interest margins of 2.6%. Deposit growth of about 12% is similar to last year. Ho projects Chinese bank earnings will grow more than 6% this year.

Ho has a HK$ 4.40 price target for Bank of China, or about 25% above last week's level, Wang likes China Minsheng Bank, whose shares have outperformed the group for two years in a row and still trades at 7.7 times this year's earnings. "They are committed to making money for their shareholders and their execution capabilities have been very impressive," he says. Among the Big Four state banks, he likes Agricultural Bank of China. It has the biggest network in smaller cities and rural areas which are getting the more attention now as development moves inland. "Because they are focused on rural areas, their unit productivity is very low but that means there is huge room for improvement which will help their bottom line." The price/earnings ratio on the stock is barely seven times earnings. Despite the caps on real estate, the economic outlook is still pretty robust for 2013 and 2014.